Regulatory Impact Assessment Banking - Deloitte · 2019-12-20 · development of a strong financial system. Banking is a significant portion of the Indian financial system and the

1

Regulatory Impact

Assessment

Banking

October 2014

Regulatory Intelligence Group

For private circulation only

[email protected]

Preface 3

Special Feature Articles 4

Our point of view on key RBI guidelines issued in August 9

Other guidelines issued by RBI during the month 22

Contacts 25

Contents

Prime Minister Narendra Modi’s maiden

Independence Day speech created a spur of

positivity amongst all when he invited global

firms to set up manufacturing bases in the

country - his panacea to fix the multiple

economic problems including low employment

creation, slow economic growth and trade

deficit among others which currently plague the

country. While the “Make in India” campaign

with its “Made in India” vision is definitely the

way forward, the manufacturing sector has

been hurdled with numerous issues with the

biggest challenge being high inflation rates

coupled with high interest rates, despite easing

in the past couple of months remaining high;

impacting investments and demand. India’s

policymakers must thus, resolve this pressing

issue on a priority basis and create a favorable

business climate.

A favorable business climate can be achieved

with the strengthening of the financial system in

the country. Banking being a significant part of

the financial system, one can anticipate reforms

in the banking sector with the focus being on

revving up the manufacturing sector and

improving the business climate in the country.

However, whether changes in the financial

sector should be the focus has been discussed

further in this issue in the special feature article

“Is financial system development the right

catalyst for economic development?”. The

major regulations issued by RBI during this

month also reflect the thought process of

reviving the manufacturing sector. The Central

Bank has attempted to help fix the lacunae

present in the infrastructure sector and core

industries by allowing flexible structuring of long

term project loans, thereby reducing the strain

on the balance sheet of banks and enhancing

credit availability.

Further, this issue also includes a special

feature wherein we have enumerated the

possible direction of future regulations

regarding the measurement of market risk by

banks. The broadening components of market

risks to include areas such as counterparty

credit risk, market liquidity risk, classification

and treatment of exposures and capital

calculation approach have been discussed.

Preface

3

Special Feature

Article

Is financial

system

development the

right catalyst for

economic

development

The question, “Is financial system development

the right catalyst for economic development” has

been a subject matter of debate for quite some

time. However, empirical studies clearly support

the fact that sustained periods of economic

development have been preceded by the

development of a strong financial system.

Banking is a significant portion of the Indian

financial system and the Reserve Bank of India

governor is making every effort to bring about

significant reforms within this domain as his

contribution towards the macro goal of economic

development. The RBI governor started off his

tenor by focusing his efforts on taming the twin

devils of inflation and currency volatility in the

wake of a global scenario embedded with a

threat of reducing dollar liquidity. With the

currency rates stabilized and anchor inflation rate

being revised to a CPI index from a WPI index,

macro-economic stability became the core focus.

Also, several liberalization measures were

introduced in the foreign exchange domain both

from an investment (including hedging) and a

flow perspective. Also, a number of measures to

ensure a movement towards the BASEL 3

regime have been taken by RBI with guidelines

being issued around integrated stress testing,

liquidity coverage ratios and centralized

counterparties among others. RBI has also been

quick in reacting to the challenges on the asset

quality front faced by the public sector banks, by

issuing guidelines in this context for Banks and

also facilitating the development of a robust

Asset Reconstruction Company (“ARC”)

framework. Thus, the RBI averted the possibility

of a liquidity crisis, by creating a market for bad

loans by empowering the ARCs. With the central

bank playing a more active role today, the Bank

needs to be more agile and Rajan is rightly trying

to restructure the organization internally to gear

up to meet these challenges and has also

suggested for creation of a separate post of

“Chief Operating Officer”, thus freeing up his time

for more strategic issues.

The development of a financial system is of no

use, if there is no political will to use it effectively

to promote economic development. While the

political will was a questionable aspect till some

time back, the changed political scenario under

the new government has resulted into an

improvement in the sentiment, a fact that is

endorsed by all the rating agencies today with

the outlook being stable. The government

policies are expected to be geared towards

capitalism but not towards capitalists and hence,

give a sense that we are moving towards a

scenario of balanced growth. There is a focused

effort by the new government to fare well on the

Human Development Index, Convenience of

doing business index and all such indices that

help reduce the perception of country risk and

make the country an attractive investment

destination. A strong financial infrastructure will

help support the kind of significant growth that

the country can expect to kick off in the coming

year – assuming a time frame of one year for the

policies to start showing results. With the

economy poised for growth and the financial

system geared to meet the needs of a growing

economy, we can expect a lot more pro-reform

measures to ease Banking operations by

increasing accessibility and leveraging

technology. While we do not see the cost of

compliance coming down anytime soon, the

nature of compliances will move from a more

regulator focused compliances to a more self-

assessment driven culture. The transition may

take a much longer time than what the industry

would like for it to take, but the needle will

definitely move on the same.

Is financial system development the

right catalyst for economic

development

5

Special

Feature Article

Broadening the

Horizons -

Market Risk

Management

Traditionally, market risk management has been

considered as the risk arising from the movement

in market factors and a lot of focus has been

given to measure, monitor and manage that risk.

It is a directly observable risk exposure and can

be attributed to movements in market variables

such as interest rates, equity prices or foreign

exchange rates. There has always been

recognition among the market participants,

regulators as well as academicians that there are

other related components of market risk such as

counterparty credit risk and market liquidity risk

which impact the effectiveness of market risk

management. Regulators across the globe have

increased their attentions to these components

post credit crisis and Indian market is no

different. Regulators have also been working on

providing more clarity on the existing

components of market risk such as risk

measurement approach, treatment of banking

book exposures vis-à-vis trading book exposure,

treatment of hedges and capital calculations. In

the following section, we have discussed some of

the desired clarifications on existing regulations

or possible direction of the future regulations.

Risk measurement approach – Value at Risk

(VaR) has been the standard measurement

parameter for quantifying market risk for a long

time despite its known shortcomings. As part of

its consultative paper titled Fundamental Review

of Trading Book (FRTB), Basel committee has

suggested expected shortfall as the measure for

market risk. The bank’s MR frameworks including

their policies, limit frameworks as well as

systems will be impacted to incorporate the

change. One of the softer aspects will be the

change of the mindset. Traders today have

developed a sense of risk while entering into a

new trade using VaR as the base risk measure; it

would be a bit difficult to change the present

mindset and start thinking in terms of expected

shortfall (‘ES’).

Classification and treatment of exposures –

Treatment of AFS (Available for Sale) exposure

has been a debatable area for the Indian Banks

for some time now - whether to consider them as

part of trading book or banking book, how should

the risk be measured and managed, rationale

behind differential treatment between HFT and

AFS and AFS and HTM, whether AFS should

hold securities with similar behavior

characteristics as HFT or HTM. It would be

expected to have more clarity on the treatment of

exposures and the classification may need to be

justified by trading behavior rather than by only

intent.

Treatment of hedging positions – As part of

active market risk management, hedges may

play a very important part. However, the

ambiguity in treatment of hedges as well as the

accounting treatment allowed in India does not

encourage banks to use hedging as a risk

management tool. The accounting treatment in

India restricts recognizing the hedging benefits in

the P&L statements (reducing P&L volatility)

even though the economic rationale may be

sound. It is expected that the prospective

accounting and banking regulations will reduce

the gap between the economic rationale for and

accounting implication of hedging.

Capital calculation approach – Capital is

arguably the best form of risk management tool

available if the capital calculation methodologies

are aligned with the risk assumed by the Bank.

The banks in India are still making up their mind

in migrating towards internal models approach

(‘IMA’).

The expectation is that there will be more clarity

on some of the requirements of capital charge

calculations before the banks start adopting the

IMA. There could be a huge regulatory capital

arbitrage for the banks having substantial HFT

positions between SMM and IMA approach.

Alignment of the SMM approach with the

business realities of hedging and netting is

necessary. Similarly, adjustment of the risk

weights to bring them at par with the internal

models approach may be required. Regulators

have allowed banks to use a hybrid approach for

calculation of capital. Going forward, that

flexibility may be removed and regulators may

want to prescribe the capital calculation approach

for different product classes.

Broadening The Horizons - Market

Risk Management

7

There has been a lot of discussion on

components of Internal Models Approach and

after Basel 2.5, a general understanding is that

the overall capital requirement is too high for the

type of risk being carried by Indian Banks,

especially once compared with the SMM

approach. Rationalization of the Internal Models

Approach may be required and has already

been discussed as part of the FRTB. It is being

proposed to use ES as one measure for capital

calculation rather than Value at Risk (‘VaR’) and

stressed VaR. There may also be a need to

bring banking book (HTM or AFS depending on

classification) exposure for IDRC (Incremental

Default Risk Calculation) to discourage the

participants from using Banking book as a

temporary parking slot for a intended trading

position. Although for sovereign securities it may

not make much difference but in case of

treatment of other AFS exposures, such clarity

will be required.

Managing market liquidity risk – One of the

biggest constraints faced by the Indian Banks in

using the quantitative methodologies is the

availability of traded data for liquid instruments.

Still there has not been a standard market

treatment to handle illiquidity in the market.

Regulators have been working on providing

some standardized methodology to handle the

impact of market illiquidity but it is yet to be

finalized. There is a possibility that valuations or

risk measures may be significantly impacted

once the illiquidity impact is considered. One of

the practical challenges for the banks would be

to include the impact on the pricing of

instrument. Indian market being very price

sensitive, a slight differentiation on the pricing

may be sufficient for the clients to shift. Usage of

a single liquidity horizon (10 days) for capital

calculation purpose may also come into

screening. It is expected that the regulator will

allow different liquidity horizons for different

product classes.

Managing counterpart credit risk – This is risk

arising from dealing in over the counter (OTC)

products where exposure may be created due to

market movements and hence risk of default or

delay in payment. Basel III has put in a lot of

emphasis on measuring and managing

counterparty credit risk (‘CCR’). Getting reliable

default data / credit spreads is one of the biggest

challenges in adopting Internal Models Approach

for measuring counterparty credit risk. The CDS

market in India has not picked up momentum as

yet. Hence, there may be a need to modify some

of the governing principles for CDS market to

make it more attractive for the market

participants. Another big challenge for the

market participants is to include the impact of

CCR into the product pricing.

The factor based measures may not be accurate

enough to reflect the risk associated with the

transaction or the counterparty and most of the

Indian Banks have not implemented the model

based calculation approach. It would be

comparatively easier to start calculating capital

charge for counterparty credit risk as the

regulator has prescribed the Factor Based

Approach; however using the adjustments for

pricing and valuation is the key to effectively

managing the counterparty credit risk.

After the credit crisis of 2008, regulators have

restricted the use of complex products and

exotic instruments and the trend has been same

till date. The Indian banking industry is primarily

dealing with cash securities and plain vanilla

derivatives. With relative stability in the global

market, the expectation is that new types of

products will be allowed and banks will use the

currently allowed instruments in innovative ways

to manage the market requirements. Use of

realistic and appropriate modelling techniques,

quantification of various risks parameters and

migration to Internal Models Approach should be

the theme for short to medium time horizon.

8

Our point of

view on key

RBI

guidelines

issued in

August

2014

RBI Circular Reference: RBI/2014-15/167

Date of Notification: August 7, 2014

Applicable Entities: Scheduled Commercial

Banks

Background & Objective

Under new RBI guidelines, banks need to set

aside 5% of the fresh restructured loans as

provisions. If loans turn bad, the provisioning

goes up to at least 15%. Higher provisioning

affects the profitability of banks.

Hence in order to provide operational flexibility

and also to reduce the burden of stress on the

balance sheet of the banks, The Reserve Bank

on July 15, 2014 issued a circular on " Flexible

Structuring of Long Term Project Loans to

Infrastructure and Core Industries" which

allowed banks to refinance their new project

loans to infrastructure sector with flexible

structuring to absorb potential adverse

contingencies through what is known as the

5/25 structure. However, for the existing

infrastructure and other project loans the RBI

had allowed a similar restructuring, but had said

that the project must be taken over

substantially" ( more than or equal to 50%) by

another financial institution at the time of

refinancing. However, feedback received from

banks shows that the above stipulation of

substantial take-over of loans i.e., more than

50% of the outstanding loan by value from the

existing financing banks / financial institutions is

generally difficult to achieve, since a significant

number of banks are already part of the

consortium/multiple banking arrangement of

such project loans. In order to address this

issue faced by the banks, the RBI has notified

this circular.

Directives Issued by RBI

In respect of existing project loans, it has been

decided that banks may refinance such loans

by way of full or partial take-out financing, even

without a pre-determined agreement with other

banks / FIs, and fix a longer repayment period,

and the same would not be considered as

restructuring in the books of the existing as well

as taking over lenders, if the following

conditions are satisfied:

i. The aggregate exposure of all institutional

lenders to such project should be minimum

Rs.1,000 crore;

ii. The project should have started

commercial operation after achieving Date

of Commencement of Commercial

Operation (DCCO);

iii. The repayment period should be fixed by

taking into account the life cycle of and

cash flows from the project, and, Boards of

the existing and new banks should be

satisfied with the viability of the project.

Further, the total repayment period should

not exceed 85% of the initial economic life

of the project / concession period in the

case of PPP projects;

iv. Such loans should be ‘standard’ in the

books of the existing banks at the time of

the refinancing;

v. In case of partial take-out, a significant

amount of the loan (a minimum 25% of the

outstanding loan by value) should be taken

over by a new set of lenders from the

existing financing banks/Financial

Institutions; and

vi. The promoters should bring in additional

equity, if required, so as to reduce the debt

to make the current debt-equity ratio and

Debt Service Coverage Ratio (DSCR) of

the project loan acceptable to the banks.

Flexible Structuring of Long Term

Project Loans to Infrastructure and

Core Industries

10

The above facility will be available only once

during the life of the existing project loans. The

refinancing of existing project loans not meeting

the conditions above will continue to be

governed by the instructions contained in

‘Framework for Revitalizing Distressed Assets

in the Economy - Refinancing of Project Loans,

Sale of NPA and Other Regulatory Measures’

of our circular dated February 26, 2014.

Implications

The provisions of the circular stipulate that in

case of partial takeout the banks can takeover

as low as 25% of the loan value and the loan

may still be treated as 'standard' or good in the

books. This will reduce the provisioning

requirements of the standard asset as against a

restructured loan which required 5% of the loan

value as provisioning.

However, it is pertinent to note that for existing

loans, the facility to refinance after a certain

period will be available only once for the life of

the project.

Though there is significant easing on eligibility

of take out financing, the overall asset

classification remains standard and will not

have a significant impact on the improvement of

asset quality in the near future. Banks are

therefore advised to revisit their credit policies

and make adequate changes to ensure only

commercial viable projects pass the eligibility

criteria for loan sanctioning.

11



Applicable Entities: Registered Securitization

Companies and Reconstruction Companies


Prolonged slow growth has adversely affected

the Indian economy. The banking system is

sitting on pile of huge non-performing loans and

coupled with restructured loans, they are

estimated to be around 15 % of bank loans. The

Securitization and Reconstruction of Financial

Assets and Enforcement of Security Interest

(“SARFAESI”) Act was passed in the year 2002

with an aim to provide a statutory framework to

banks for bad loan recovery. With the BASEL III

capital requirements kicking in soon, the PSU

banks are severally undercapitalized and the

NPA problem only aggravates the situation

further. As per the earlier guidelines when an

asset is sold off to an ARC, about 5% of value

of asset sold is given back to the bank in cash

which is directly written back to the P&L

account by the bank. The remaining 95% of the

value is issued as Security Receipt (“SR”) by

the Securitization Company (“SC”) or

Reconstruction Company (RC”). In the past few

years the business of Asset Reconstruction

Company (“ARC”) (also referred to as SC/RC)

was booming and there were concerns raised

by the regulator on the valuation of the loan

book taken over by them. Also the management

fee charged by them was linked to the value of

outstanding SRs leading to high payout to the

ARCs. The earlier model with back ended

recovery was really attractive for the ARCs and

seemed too disadvantageous to the Banks

selling to them. However in order to create a

balanced environment for both the ARCs and

the Banks selling to them, RBI has revised the

guidelines with more focus on the type of asset

quality that is being transferred to them and also

the valuation methodology around the same.


In order to tone up the regulatory framework

pertaining to SCs/RCs, in the light of experience

gained, it has been decided to make certain

modifications to the existing Directions as

under:

Investment of SCs / RCs in Security

Receipts (SRs) - At present, SCs/RCs have to

mandatorily invest and hold minimum 5% of the

SRs issued by them against the assets

acquired on an ongoing basis. Henceforth,

SCs/RCs shall, by transferring funds, invest a

minimum of 15% of the SRs of each class

issued by them under each scheme on an

ongoing basis till the redemption of all the SRs

issued under such scheme.

More time for due diligence - Before bidding

for the stressed assets, SCs/RCs may seek the

auctioning banks to give adequate time, not less

than 2 weeks, to conduct a meaningful due

diligence of the account by verifying the

underlying assets.

Change in definition of planning period -

Planning period will mean a period not

exceeding six months (instead of twelve months

as at present) allowed for SCs / RCs to

formulate a plan for realization of non-

performing assets of the selling bank acquired

for the purpose of reconstruction.

Valuation of SRs -The initial valuation of SRs

should be done within a period not exceeding

six months of acquiring the underlying asset

(instead of one year as at present) to enable all

the stake holders to realistically assess the

value of SRs at an earlier date.

Certain Amendments in Regulatory

framework for Securitization

Companies/Reconstruction

Companies

12

Management fees - Management fees should

be calculated and charged as percentage of

the net asset value (NAV) at the lower end of

the range of the NAV specified by the Credit

Rating Agency (CRA) (rather than on the

outstanding value of SRs as at present),

provided that the same is not more than the

acquisition value of the underlying asset.

However, management fees are to be

reckoned as a percentage of the actual

outstanding value of SRs, before the

availability of NAV of SRs.

Membership in Joint Lenders’ Forum (JLF) -

In terms of Circular

DBOD.BP.BC.No.97/21.04.132/2013-14 dated

Feb. 26, 2014 on ‘Framework for Revitalizing

Distressed Assets in the Economy – Guidelines

on Joint Lenders’ Forum (JLF) and Corrective

Action Plan (CAP)’, the banks have been

advised that as soon as an account is reported

by any of the lenders to ‘Central Repository of

Information on Large Credits’ (CRILC) as SMA-

2, they should mandatorily form a committee to

be called JLF if the aggregate exposure (AE)

[fund based and non-fund based taken

together] of lenders in that account is Rs 100

crore and above. SCs/RCs also should be

members of JLF and should be a part of the

process involving the JLF with reference to

such stressed assets.

Reporting to Indian Banks’ Association

(IBA) - In terms of the same circular on joint

lending, banks are to report to IBA the details

of the recalcitrant CAs, Advocates and Valuers

who have committed serious irregularities in

course of rendering their professional services.

Likewise, the SCs / RCs are to report to IBA

the details of such CAs, Advocates and

Valuers for placing it on the IBA database of

Third Party Entities involved in fraud. However,

the SCs/RCs will have to ensure that they

follow meticulously the procedural guidelines

issued by IBA (Circ. No. RB-II/Fr./Gen/3/1331

dated August 27, 2009) and also give the

parties a fair opportunity to explain their

position and justify their action before reporting

to IBA. If no reply / satisfactory clarifications

are received from them within one month, the

SCs/RCs may report their names to IBA. SCs /

RCs should consider this aspect before

assigning any work to such parties in future.

Additional disclosure

• At present it is mandatory for the SCs /

RCs to disclose in their balance sheet the

value of financial assets acquired during

the financial year either on its own books or

in the books of the trust. In addition, SCs /

RCs will have to mandatorily disclose the

basis of their valuation if the acquisition

value of the assets is more than the Book

Value (the value of the assets as declared

by the seller bank in the auction). Similarly,

SCs / RCs will have to disclose the details

of the assets disposed off (either by write

off or by realisation) during the year at

substantial discount (say more than 20% of

valuation as on the previous year end) and

the reasons therefor. SCs / RCs are, also,

to declare upfront the details of the assets

where the value of the SRs has declined

substantially below the acquisition value.

• SCs / RCs should put up in their website

the list of wilful defaulters, (by adopting the

process as defined in DBOD Master Circ.

No. CID.BC.3/20.16.003/2014-15 dated

July 1, 2014) at quarterly intervals. Further,

in terms of DNBS (PD-

SC/RC).CC.No.23/26.03.001/2010-11

November 25, 2010, each SC / RC is

required to become a member of at least

one credit information company (CIC) and

provide to the CIC periodically accurate

data/history of the borrowers. In this case,

also, they should furnish the data of wilful

defaulters to the CIC in which they are

members.

13

Implications

The guideline has the following impact:-

• The ARCs will now have to mandatorily

invest and hold 15 % of the SR in place of

a limit of 5 % earlier. This will have an

immediate impact on the cash flows for the

banks which will receive 15% of the value

of the sale amount of the NPAs and more

realistic valuation from the ARCs as they

will have to pay a fair sum of money

upfront. Also structurally the ARCs will

move from a more negotiation focused

business model to a more recovery

oriented model.

• The SC/RCs will have to conduct a due

diligence within a period of two weeks to

verify the existence of the underlying

assets. Prior to this requirement, there was

no time limit defined for conducting due

diligence and hence the SCs/RCs had to

make speedy decisions, which necessarily

weren’t the right calls and hence this

revision definitely is a structural

improvement in the right direction.

• The ARCs will now have to formulate a

plan for the realization of non-performing

assets within a period of 6months instead

of 12 months allowed earlier. Further they

will have to do the valuation of the SRs

within a period of 6 months instead of 12

months allowed earlier. This will enable all

the stakeholders to realistically assess the

value of the SRs at an earlier date rather

than waiting till the year end. Structurally

ARCs are meant to increase the liquidity in

the system and facilitating price discovery

through more frequent valuations helps

meet that liquidity objective.

• •The calculation of the management fees is

more scientific and linked to the

percentage of the NAV at the lower end of

the range of NAV specified by the credit

rating agency rather than on the

outstanding value of SRs at present and

the same should not be more than the

acquisition value of the underlying asset.

However, management fees are to be

reckoned as a percentage of the actual

outstanding value of SRs, before the

availability of NAV of SRs. This is a

welcome change for the Banking system,

as asset acquisition deals between the

Banks and ARCs will be more fairly

structured.

• The SCs/RCs should also form part of the

Joint lending forums in terms of the circular

issued by RBI on ‘Framework for

Revitalizing Distressed Assets in the

Economy – Guidelines on Joint Lenders’

Forum (JLF) and Corrective Action Plan

(CAP)’. This will ensure that the SCs/RCs

are involved in the entire life cycle from an

asset quality standpoint, enabling them to

take a more balanced views at the time of

asset acquisitions, should the JLF choose

that route.

• The ARCs will also have to report to the

Indian Banking Association the details of

the recalcitrant Cas,Advocates and Valuers

who have committed serious irregularities

in course of rendering their professional

services. They will have to follow the

procedural guidelines issued in this regard

by the IBA. Thus Banks would need to

ensure that the relevant control framework

is established within the credit

administration functions of their institutional

banking divisions to facilitate such periodic

reporting.

14

• In order to make the valuation process of

the ARCs more transparent, they will have

to mandatorily disclose the basis of their

valuation if the acquisition value of the

assets is more than the Book Value (the

value of the assets as declared by the seller

bank in the auction). Similarly, SCs / RCs

will have to disclose the details of the assets

disposed off (either by write off or by

realisation) during the year at substantial

discount (say more than 20% of valuation as

on the previous year end) and the reasons

therefor. SCs / RCs are, also, to declare

upfront the details of the assets where the

value of the SRs has declined substantially

below the acquisition value. These changes

will go a long way in building mutual trust

between the Banks and ARCs and thus help

foster a much deeper relationship – an

aspect that could go a long way in helping

resolve the asset liability mismatches

existent within the financial system.

• Further in tightening the screws around the

wilful defaulters, the SCs/RCs are also

required to put up the list of wilful defaulters

on their website on a quarterly basis.

15




Banks (Excluding Local Area Banks and

Regional Rural Banks)


Banks are required to schedule loans due to the

delays in the completion of infrastructure

projects primarily due to uncertainties involved

in obtaining clearances from various authorities

thus leading to delay in project implementation

and extension of date of commencement of

commercial operations (DCCO). Also, as the

non-infrastructure projects also face similar

genuine difficulties in meeting the DCCO as in

the case of infrastructure projects, it was

recommended that the extant asset

classification benefits in cases of restructuring

on account of change of DCCO of non-

infrastructure projects should also continue for

some more time.

The main objective for releasing this notification

was to ensure adequate and timely flow of

funds to the projects which are under

implementation by extending the DCCO without

considering it as an restructuring activity. Banks

have to make a provision on their restructured

standard infrastructure and non-infrastructure

project loans apart from provision for reduction

in fair value due to extension of

DCCO/restructuring of loans. Thus, with a view

to assisting the banks and avoiding in making

extra provisions on such restructured loans

which are a recurring phenomenon, the issue

was examined and it had been decided that

mere extension of DCCO would not be

considered as restructuring provided certain

conditions are met.


Basis the notification dated August 14, 2014,

banks were advised vide circular RBI/2014-

15/182-DBOD.No.BP.BC.33/21.04.048/2014-15

on the 'Prudential Norms on Income

Recognition, Asset Classification and

Provisioning Pertaining to Advances - Projects

under Implementation' that mere extension of

DCCO should not be considered as

restructuring, if the revised DCCO falls within

the period of two years and one year from the

original DCCO for infrastructure projects and

non-infrastructure projects respectively. In such

cases the consequential shift in repayment

period by equal or shorter duration (including

the start date and end date of revised

repayment schedule) than the extension of

DCCO, should also not be considered as

restructuring provided all other terms and

conditions of the loan remain unchanged.

RBI further notified that funding the cost

overruns, which may arise on account of

extension of DCCO within the above time limits

should also not be treated as restructuring. In

some cases, the banks sanction a ‘standby

facility’ at the time of initial financial closure to

fund such cost overruns wherein they may fund

the cost overruns as per the terms and

conditions that have been agreed at the time of

initial financial closure . Where the initial

financial closure does not envisage such

financing of cost overruns, based on the

representations from banks, it has been decided

to allow banks to fund cost overruns, which may

arise on account of extension of DCCO within

the time limits , without treating the loans as

‘restructured asset’ if the following conditions

are satisfied:

Prudential Norms on Income

Recognition, Asset Classification and

Provisioning Pertaining to Advances -

Projects under Implementation

16

i. Banks may fund additional ‘Interest During

Construction’, which may arise on account

of delay in completion of a project.

ii. Also, the banks may be allowed to fund

other cost overruns (excluding Interest

During Construction) only up to a maximum

of 10% of the original project cost.

iii. After funding the cost over runs, Debt Equity

Ratio as agreed at the time of initial financial

closure should remain unchanged or

improve in favour of the lenders and the

revised Debt Service Coverage Ratio should

be acceptable to the lenders.

iv. Disbursement of funds for cost overruns

should start only after the

Sponsors/Promoters bring in their share of

funding of the cost overruns.

v. All other terms and conditions of the loan

should remain unchanged or enhanced in

favour of the lenders.

Implications

The following are the implications of the

instructions issued by RBI:

• Under the instructions, banks are allowed to

fund project cost overruns, which may arise

on account of extension of the date of

commencement of commercial operations

(DCCO), without treating the loans as

‘restructured asset’. Further, the banks

should not treat any new request received

for funding of cost overruns, which may

arise on account of extension of DCCO

prescribed limits as a case of restructuring .

Banks would be required to take cognizance

of this fact and should incorporate the

mentioned amendments in the credit

policies of the bank which should be

approved by the board.

• Cost overruns and delays occur because of

inaccurate estimates leading to higher

actual costs, and longer construction

periods than anticipated. Banks should

review the initial terms and conditions of the

loan and identify if the bank has specifically

sanctioned a ‘standby facility’ at the time of

initial financial closure. In cases where

banks have specifically sanctioned a

‘standby facility’ at the time of initial financial

closure to fund cost overruns, they may fund

cost overruns as per the agreed terms and

conditions.

• The bank should adopt a robust credit

assessment mechanism for taking into

consideration the funding requirements of

the cost over runs. Banks should carry out

sensitivity tests / scenario analysis taking

into consideration the project delays and

cost overruns.

17

• Funding of cost overruns, which may arise

on account of extension of DCCO within the

above time limits may be allowed without

treating the loans as restructured only in

those cases where the initial financial

closure does not disclose such financing of

cost overruns. The bank may take following

steps to keep track of the cost overruns:

1. The bank may obtain a certificate from

an architect / engineer

approved/empanelled with local

authority that the construction has been

carried out as per approved building

plans and have all safety measures as

by-laws of local authority/fire

department and detailing the additional

‘Interest During Construction’ and other

cost overruns (excluding Interest During

Construction) incurred.

2. The initial financial model prepared

during credit assessment must be

checked for breach of limit of 10% of the

original project cost in case of funding

other cost overruns.

3. The funding amount for cost over runs

must be incorporated in the financial

model, prepared during credit appraisal,

and the Debt Equity Ratio and Debt

Service Coverage Ratio must be re-

calculated with the initially agreed ratios.

4. Banks may also check whether all the

final terms and conditions of the loan

expect the tenor of the loan remain

unchanged.

• The directives issued by the RBI through

this circular may be subject to internal /

concurrent audit of the banks to ensure

compliance with the same.

18




Banks including RRBs/ Urban Co-operative

Banks/ State Co-operative Banks/ District

Central Co-operative Banks/ Authorized Card

Payment Networks


In spite of issuing guidelines for introduction of

additional authentication / validation mechanism

for CNP transactions, the RBI had observed

instances of violation of these guidelines, even

where the underlying transactions are taking

place between two residents in India. The issue

had come to the fore after Uber Cab's launch in

India. The fare was computed at the back-end

by the GPS system and debited to the

customer's credit card using account details,

which are stored in the company's servers.

Following its India entry, rival taxi operators

such as Meru and Ola Cabs had complained

that Uber was not following the RBI norms. But

later when Uber said that it was using an

international payment gateway to work around

the two-stage authentication mandated by the

RBI, rivals had started looking at offering a

similar facility.

Thus, these entities were evading the

requirement of additional

authentication/validation by following business /

payment models which result in foreign

exchange outflow. These practices defeated the

purpose of the guidelines and were against the

directives issued under the Payment and

Settlement Systems Act 2007 and the

requirements of Foreign Exchange

Management Act, 1999. RBI's move has put a

lid on such moves.


It has come to our notice that despite the above

clarifications there are instances of card not

present transactions being effected without the

mandated additional authentication/validation

even where the underlying transactions are

essentially taking place between two residents

in India (card issued in India being used for

purchase of goods and service offered by a

merchant/service provider in India). It is also

observed that these entities are evading the

mandate of additional authentication/validation

by following business / payment models which

are resulting in foreign exchange outflow. Such

camouflaging and flouting of extant instructions

on card security, which has been made possible

by merchant transactions (for underlying sale of

goods / services within India) being acquired by

banks located overseas resulting in an outflow

of foreign exchange in the settlement of these

transactions, is not acceptable as this is in

violation of the directives issued under the

Payment and Settlement Systems Act 2007

besides the requirements under the Foreign

Exchange Management Act, 1999.

In view of the above, it is advised that entities

adopting such practices leading to willful non-

adherence and violation of extant instructions

should immediately put a stop to such

arrangements.

It is further advised that where cards issued by

banks in India are used for making card not

present payments towards purchase of goods

and services provided within the country, the

acquisition of such transactions has to be

through a bank in India and the transaction

should necessarily settle only in Indian

currency, in adherence to extant instructions on

security of card payments.

Security Issues and Risk Mitigation

measures related to Card Not

Present (CNP) transactions

19

Implications

• Acquisition of Merchant transactions (for

underlying sale of goods / services within

India) by banks located overseas resulting in

an outflow of foreign exchange in the

settlement of these transactions will not be

permitted.

• Where cards issued by banks in India are

used for making CNP payments towards

purchase of goods and services provided

within the country, the acquisition of such

transactions has to be through a bank in India

and the transaction should be settled in INR.

20



Applicable Entities: Category- I Authorized

Dealers


The government and the RBI have been

actively making efforts to improve the business

environment in the country. With the issue of

this notification, the RBI has simplified the

procedure for re-financing of ECBs leading to

better price discovery.


It has been decided to simplify the procedure by

delegating powers to the AD Category – I banks

to approve even those cases where the AMP of

the fresh ECB is exceeding the residual

maturity of the existing ECB under the

automatic route subject to the following

conditions:

• Both the existing and fresh ECBs should be

in compliance with the applicable guidelines;

• All-in-cost of fresh ECB should be less than

that of the all-in-cost of existing ECB;

• Consent of the existing lender is available;

• Refinancing is to be undertaken before the

maturity of the existing ECB;

• Borrower should not be in the default /

Caution List of RBI and should not be under

the investigation of the Directorate of

Enforcement (DoE);

• Overseas branches / subsidiaries of Indian

banks will not be permitted to extend ECB

for refinancing an existing ECB; and

• All requirements in respect of reporting

arrangements like filing of revised Form 83,

etc. are followed.

This facility will be available even in those

cases where existing ECBs were raised under

the approval route subject to the amount of new

ECBs being eligible to be raised under the

automatic route.

Implication

Earlier, refinancing of ECBS at a lower all-in-

cost were allowed only through the approval

route if the Average Maturity Period (AMP)

exceeded the residual maturity period of the

existing ECB. However, this power has now

been delegated to the AD Category-I banks

subject to certain conditions enumerated in the

above section.

Delegation of this power to the AD Category- I

banks is expected to significantly reduce the

turn around time for the sanctioning of the new

loans for the purpose of refinancing.

Additionally, it will also result in a better price

discovery for ECB loans in the markets.

Compliance departments and Credit

departments of banks are expected to take note

of this directive and amend their ECB policies

accordingly.

Refinancing of ECB at lower all-in-

cost - Simplification of Procedure

21

Other

Guidelines

issued by

RBI in the

Month

S.no Guidelines

Reference

Date of

Issue

Particulars Impact

1 RBI/2014-15/179 14-Aug-14 Usage of ATMs –

Rationalisation of

number of free

transactions

a. Taking into account the high density of

ATMs, bank branches and alternate modes

of payment available to the customers, the

number of free ATM transactions for

savings bank account customers at other

banks’ ATMs is reduced from the present

five to three transactions per month

(inclusive of both financial and non-financial

transactions) for transactions done at the

ATMs located in the six metro centres, viz.

Mumbai, New Delhi, Chennai, Kolkata,

Bengaluru and Hyderabad. Nothing,

however, precludes a bank from offering

more than three free transactions at other

bank ATMs to its account holders if it so

desires.

b. This reduction will, however, not apply to

small / no frills / Basic Savings Bank

Deposit account holders who will continue

to enjoy five free transactions, as hitherto.

c. At other locations i.e. other than the six

metro centres mentioned above, the

present facility of five free transactions for

savings bank account customers shall

remain unchanged.

d. ATM installing banks have to indicate

clearly at each ATM location that the ATM

is situated in a ‘metro’ or ‘non-metro’

location using appropriate means (message

displayed on the ATM / sticker / poster,

etc.) to enable the customer to identify the

status of the ATM in relation to availability

of number of free transactions. Further,

banks are advised to ensure the “ATM

location identifiers” in their ATM database is

accurate and kept up-to-date at all times so

as to minimise disputes, if any, in the

matter.

e. The issuing banks are also advised to put in

place proper mechanisms to track such

transactions and ensure that no customer

inconvenience or complaints arise on this

account.

23

S.no Guidelines

Reference

Date of

Issue

Particulars Impact

f. The provisions related to levy of charges for

use of own-bank ATMs, vide our circular

dated March 10, 2008, has also been

reviewed. Accordingly, banks are advised

that at least five free transactions (inclusive

of financial and non financial transactions)

per month should be permitted to the

savings bank account customers for use of

own bank ATMs at all locations. Beyond

this, banks may put in place appropriate

Board approved policy relating to charges

for customers for use of own bank ATMs.

g. The ceiling / cap on customer charges of

Rs.20/- per transaction (plus service tax, if

any) will be applicable.

h. Banks are advised to ensure that the

charges structure on ATM transactions, as

per their Board approved policy, is informed

to the customer in a fair and transparent

manner.

i. Further, banks are advised to put in place

suitable mechanism for cautioning /

advising / alerting the customers about the

number of free transactions (OFF-US as

well as ON-US) already utilised during the

month by the customer and the possibility

that charges may be levied as per the

banks’ policy on charges.

24

Muzammil Patel

Senior Director, DTTIPL

[email protected]

+91 22 6185 5490

.

Vivek Iyer

Director, DTTIPL

[email protected]

+91 22 6185 5558

Abhinava Bajpai

Director, DTTIPL

[email protected]

+91 22 6185 5557

For further information, send an e-mail to [email protected].

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Regulatory Impact Assessment Banking - Deloitte · 2019-12-20 · development of a strong financial system. Banking is a significant portion of the Indian financial system and the